The world is buzzing with talks about NFTs. The topic has spilt from the crypto-world to the world of social media, and now even apps are being created to enable people to “make” NFTs. But despite all this talk, most people still don’t know what an NFT is.
We thought it was time to explain in the simplest way possible.
Let’s dive in…
NFT is a Non-Fungible Token. In economics, the term ‘fungible’ indicates something that can be interchanged or exchanged for one-another. Hence, ‘non-fungible’ means something that cannot be inter-changed. This makes it unique.
Yes, unique. We’ll get to that in a minute.
First, let’s understand what it is before we dive into its working.
NFTs are one-off tokens, managed and owned digitally. Think of them as digital assets, for easier understanding. They are part of a blockchain, where information is stored differently for each block.
To understand blockchain, cryptocurrencies and crypto platforms, read our previous articles:
The Boom and Future of the Fintech Industry
Cryptocurrency – A decade dedicated to the future
NFTs are mostly part of a platform called Ethereum, which is more than just a cryptocurrency.
NFTs as Digital Assets
NFTs can be any form of digital assets, but the current buzz revolves mostly around using the technology to create and sell digital art. It uses tokens to indicate ownership of the digital asset. At a time, there can be only one owner of a token, even if there are copies made of the same.
In a blockchain, every time a NFT is created, a block is added with its details. This information on the block, makes every token unique. Since they are minted through “smart contracts”, the blocks indicate ownership and allow managing transferability.
Simply put, the 3 steps to creating the token information would be:
- Recording the information into the new block
- Validation of the data created
- Creation of a new block in the blockchain
To add authenticity to the token (block), the creator’s public key (refer to Cryptocurrency article) is added into the history of the token, and remains a part of it.
Still confused? Let’s use an example.
Let us assume we use the Ethereum platform and somewhat familiarise ourselves with how to buy, hold and sell the cryptocurrency called “Ether”.
Now, let’s say I turn this article into a digital asset on the Ethereum platform, and call it NFT-X. It will add a new block on the blockchain, where the ledgers of all miners across the world will be updated with my public key and some other information which makes NFT-X unique.
Next, I decide to sell this NFT-X to Batman (well, why not!) and the price is set at 1000 Ether. Since we deal on the Ethereum platform, the mode of payment shall be the corresponding cryptocurrency. Stay with me, it going to get interesting…
Now, Batman has ownership of NFT-X, and he can prove it because his private key gets added to the block that was created during the transaction. This transaction block will contain information about the asset, Batman’s private key and my public key. My public key indicates authenticity of NFT-X, which makes it quite impossible to copy or replicate.
Batman decides to hold this is his Ethereum wallet for a year, and during that period, the word gets out and the price of NFT-X doubles. Joker makes an offer to Batman, who accepts (yeah, Joker can afford it). As soon as NFT-X gets transferred to Joker’s wallet, Batman gets the agreed Ether. But guess what! I receive royalty too! (Remember…. I am the creator?)
Each time NFT-X changes hands, I get royalty on it too. My public key remains embedded, proving that I am the creator, and the original right is mine. The buyer’s private key controls the NFT, and they can use a signed message to prove ownership, if they do not want to reveal their private key.
For collectors, this is relaxing, because they know their asset is safely stored in the Ethereum wallet. The platform, being decentralised, is safer than any third party assuring to maintain its safety.
How do we determine the price of a NFT?
There are many factors that go into the pricing of a NFT – who the creator is, who the buyer is, what it represents, etc. But one of the factors that is used to determine the price, is its scarcity. Knowing whether the asset is a one-off, or has a limited number of copies, can make it more valuable than something which can have multiple copies. And yes, the scarcity is determined by the creator.
Let us draw a little comparison between ads on social media on NFT.
When we promote a post/photo on social media, we pay the platform to run the ad for a certain period, wherein they grant us exposure to beyond our followers, for that period. This may or may not turn into a sale. With NFTs, the token directly links the creator and the buyer, hence removing any intermediary in the sale.
Though NFTs are still going through a lot of changes, in terms of developments, the future seems pretty good. The tokenisation of real items is in the works. Imagine, in a few years, you could buy a car, make the payment in Ether, and receive your deed in the form of a token (NFT), proving your ownership and the mark of the makers of the car. How wonderful, isn’t it?
Future of NFTs
- NFT-backed loans: you could put up your digital asset as a collateral against the loan you take on the Ethereum platform. This is the next big thing in the world of crypto. Once your loan is repaid, you get your asset back. If you fail to fulfil your obligation, the ownership of the asset will get transferred to the lender.
- Fractional ownership: quite like owning shares of a company, this technique will be beneficial to both, minters, and collectors. Several people can buy fractions (or portions of a particular NFT and contribute to the eventual rise of its market price. Decentralised Autonomous Organisation (DAO) is in its developmental stages, dedicated towards making fractional ownership a full opportunity under the Ethereum platform.
- Tokenisation of real items: Being able to tokenise real world items into the crypto-world, would be huge! It would make the transactions much easier to authenticate and less fraudulent.
The issue of Carbon Footprint
Yes, just like mining cryptocurrency takes enormous amounts of computing power, so does creating an NFT. Indeed, it is a concern, but as per reports alternatives are being worked upon as we read this article.
Something called “staking” in ETH-2 is being researched and developed, which would help lower carbon footprint by approximately 99%. All this while maintaining decentralisation and security.
NFTs have made a shock wave, with its fair share of non-believers. But won’t time tell what the current developments would transform into?
What do you think is the future of crypto and NFTs? Let us know in the comments.